Tuesday, August 13, 2013

As more capital flows into middle market debt, competition for larger deals heats up

As a follow-up to an earlier post (here), capital continues to flow into the middle-market mezzanine corporate lending. The reach for yield has resulted in increasingly larger pools of capital available to be deployed in this space. One should keep in mind that this is not only private equity/mezzanine funds, but also BDCs, some banks, and even insurance firms who play in that sand box. The chart below shows how much capital is available for mezz investing/lending based on the KeyBanc (KBCM) mezzanine surveys over time.

Source: KBCM

The next chart shows the average size of loans these investors are targeting. The color coding is a bit confusing, but the legend going from left to right corresponds to the buckets moving up.

Source: KBCM

While middle market mezz lenders don't do much above $50 million, the $11M and up buckets have grown on a relative basis, while those below $10M have shrunk. As more capital flows into the space, lenders are doing increasingly larger deals. With limited staff, teams who need to deploy larger amounts of capital have little choice but to move up the transaction size. According to KBCM, "debt providers seeking to place at least $25 million per investment have almost tripled since Q2 2012". The competition is heating up in that $25M+ deal size, where over time leverage will probably rise and risk/reward dynamics worsen.